Term
| Expected Utility Theory (origins) |
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Definition
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| Furhter developed the expected utility theory (EUT); when we are faced with a choice of items or outcomes subject to various levels of choice, the optimal decision will be the one that maximises the expected value of the utility (i.e. satisfaction from the choice made); utility is measured as a function of absolute wealth; always looking to maximise the outcome; rational agent model; objective verifiable information |
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| Von Neumann and Morgenstern (1947) |
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| Subjective EUT; a decision maker perceives probabilities subjectively; evaluates probabilities of consequences a priori with his or her personal knowledge or beliefs |
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| Criticism: the EUT lacks a reference point; a comparison level. For some individuals certain choices might be losses or gains based on their reference point ; evaluating gains and losses ; people's perception and evaluation is affected by a reference position ; therefore EUT is too simple |
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| Strength of EUT; may be neural evidence suggesting that our brain does compute a mathematical, linear value devoid of emotions --> ventral striatum then the prefrontal cortex to make sense of it |
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| Allais paradox (criticism of EUT); we display some behaviours that are inconsistent with EUT such as the certainty effect (choosing a certainty over an outcome with a higher expected value) |
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| Prospect Theory; outcomes are seen as losses and gains rather than states of wealth; introduced the idea of loss aversion (losses loom larger than gains) therefore we tend to avoid them --> risk averse for gains but risk seeking for losses ; includes the idea of a reference point |
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Definition
| Kahneman and Tversky (1979) |
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Experiments to support PT; 50% of people would not play a bet that involves an equal chance of winning 200 or losing 100 as the pain of losing money is greater than the pleasure of winning
-86% choose the safe lottery (90% chance of 3000 vs 45% of 6000) in the gain domain, but only 8% chose the safe lottery when all payoffs are transformed into losses |
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Definition
| Kahneman and Tversky (1981, 1986) |
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| Strength of PT: high explanatory power compared to EUT (gambling markets) |
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| Julien and Salanie (2000) |
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| Criticism of PT: regret is not taken into account; the experience of an outcome depends on an option you could have adopted but did not |
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| Criticism of PT: gamblers were found to be risk seeking for gains and risk averse for losses |
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| human beings have a naturalistic way of assesssing the probability of something happening --> through our own experience (e.g. media) and this biases our representation of items that have a small chance of occurring |
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| Tversky and Kahneman (1974) |
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| when asked to estimate the likelihood of various death, ppts over-weighted rare events (e.g. tornadoes) and underestimated the more common causes (heart disease) |
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| Lichtenstein et al. (1978) |
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Public perceptions of risk; ppts judged which cause of death (in a pair) was more frequent
-80% judged accidental deaths more likely even though strokes cause almost twice as many deaths
-Tornadoes seen as more frequent killers than asthma
-Frequency of events is distorted by the prevalence and emotional intensity of the messages we are exposed to |
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| experience (underweighting rare events common ) vs descriptive (overweighting of rare outcomes) decision making discrepancy |
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| Humans tend to avoid risk in positive frames and seek risk in negative frames |
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Definition
| Tversky and Kahneman (1981) |
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| £5 penalty vs £5 reward to motivate behaviour |
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| hypothetical treatment framing; ppts more likely to take treatment if doctor says "increases probability of survival" vs "decreases probability of death" |
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| heuristics are the general problem solving strategies that we apply for certain classes of situations |
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| Affect heuristic; people make judgments and decisions by consulting their emotions |
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| bounded rationality; people in choice situations "satisfice": decision heuristic that involves choosing the first alternative that meets minimum requirements (opposite of maximising) |
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| satisficing may lead to suboptimal behaviour as once the "acceptable" option is found the search for and evaluation of further potentially better alternatives ceases |
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| Satisficing strategies; elimination by aspects |
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| heuristics do not lead to optimal solutions |
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Definition
| Perkins and Salmon (1989) |
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| heuristics useful in difficult decision making contexts especially when there is uncertainty over the future or when we need to make quick decisions |
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| Goldstein and Gigerenzer (2002) |
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| heuristics useful in time pressed situations |
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| Heuristics are effective but can lead to predictable and systematic erros |
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| Tversky and Kahneman (1974) |
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Recognition heuristic; when trying to judge between two options and one options is recognised and the other is not , people will infer that the recognised option has the higher value; less is more effect
-American and German students were asked which city had the bigger population San Diego or San Antonio. 100% of Germans answered correctly because San Diego was the only city they recognised. Only 2/3 Americans got it right (heard of both cities so had too much information) |
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| Goldstein and Gigerenzer (2002) |
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| Probability problems are much easier if framed in terms of frequencies rather than probabilities |
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| judgment preformance is better when frequencies are presented |
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| Thaler and Sunstein (2008) |
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| choices people make are influenced by the environment in which they are made - the environment is sometimes known as "frame" |
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| Salant and Rubinstein (2008) |
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| increasing the difficulty of reaching certain foods or changing the serving utensil at the salad bar from spoon to thongs reduced intake of unhealthy food by 8 to 16% |
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| Theory of obesity; obese individuals would reduce intake more than normal weight individuals as effort to obtain food increased |
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| reported large decreases of potato chips intake and sweets in a cafeteria setting, when they were made quite inaccessible, by locating them further away from the main serving line |
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| labelling food as small makses people eat more but think they are eating less ("small" sets up an expectation that it is less than what you want it to be) |
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| Aydinoglu and Krishna (2011) |
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| loss framed messages are effective for individuals with a high perceived susceptibility to UV rays; while gain framed messages are more effective to individuals with a low perceived susceptibility. THerefore nudges are not clear cut and different people can be affected differently |
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| effectiveness of nudges rely on factors that are difficult to predict |
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| violates principals of individual freedom; since nudges activate automatic cognitive processes , conscious delibertion is bypassed and dissent is severely restricted |
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| nudges can have the opposite of the intended consequence (calorie labels increase calorie intake) |
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| boomerang effect; households who learned their energy consumption was lower than average started consuming more as their bias of being a "too good citizen" was triggered |
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